Recently, all it seems investors can talk about is the relationship between the performance of growth stocks and interest rates. The general idea is that rising yields have a negative impact on the performance of growth stocks as the risk-free rate of return increases and future cashflows for high-growth companies are discounted at a higher rate. To highlight this relationship, today we wanted to take a look at a comparison between the relative strength of the Vanguard Mid Cap Growth ETF (VOT) versus the Vanguard Value ETF (VOE) versus the yield on the 10-year US Treasury.
Looking first just at the relationship between the two this year, the chart below shows the relative strength of growth vs value (blue line) compared to moves in the 10-year US Treasury (red line). When the blue line is rising, it indicates that growth stocks are outperforming value and vice versa. For pretty much the entire year, when yields have moved higher, growth stocks have underperformed, but when yields have pulled back, growth stocks start to lead the market. Over the last several days, the inverse relationship has been even more pronounced where the two lines have completely moved in the opposite direction. For this year at least, higher interest rates have been kryptonite for growth stocks.
The chart below is the same as above but goes all the way back to 2010 instead of just this year. Looking at the chart, while there were periods of inverse correlation in the early and mid-2010s, the trend really didn’t fully take hold until late 2018/early 2019. Since then, when rates have fallen, growth has outperformed and vice versa.
The inverse correlation has reached extreme levels this year. The chart below shows the correlation coefficient between the daily ratio of the VOT (mid-cap growth) versus VOE (mid-cap value) versus the yield on the 10-year US Treasury. Since 2010, there have been five years where the correlation coefficient was positive and in only three of those years was the positive reading anything more than negligible (2012, 2015, and 2018). In each of the past three years, what we’ve seen is the inverse correlation only intensify. Back in 2019, the only other year before that where the inverse correlation was more pronounced was in 2016, but then 2020 saw what was at the time the most inverse correlation since 2010. Based on this year’s relationship, though, 2020’s record may not last long. Through Tuesday’s close, the correlation coefficient between the relative strength of growth stocks and the 10-year yield was -0.87. While the inverse relationship between growth stock performance and interest rates may not continue to be as pronounced as it is now in the future, any continued increase in long-term interest rates is likely to act as a headwind for the performance of growth stocks. Click here to view Bespoke’s premium membership options.